China’s Cautious Monetary Policy Amid Trade Tensions
As the world waits with bated breath for the next move in the trade tensions between China and the US, the People’s Bank of China (PBOC) has opted to maintain the status quo, refraining from cutting interest rates and instead draining a significant amount of cash from the financial system.
A Prudent Approach
The PBOC’s decision to hold the interest rate on the one-year medium-term lending facility steady at 2% was widely anticipated by economists. This cautious approach is likely a response to the uncertainty surrounding the trade negotiations with the US, as policymakers wait to see how the situation unfolds before making any bold moves.
Liquidity Withdrawal
In a surprise move, the PBOC withdrew a net 1.15 trillion yuan ($158 billion) from the financial system, the largest amount since 2014. This liquidity withdrawal has raised expectations of a potential cut to banks’ reserve-requirement ratio, which could happen as soon as the end of the year.
Monetary Policy Shift
Earlier this month, policymakers signaled a shift towards a “moderately loose” monetary policy, accompanied by “more proactive” fiscal tools to support the economy. However, concrete stimulus measures have yet to be announced, reflecting the government’s patience in the face of potential trade escalation.
Economist Insights
According to Ming Ming, chief economist at Citic Securities Co., the steady MLF rate is within expectations, and he predicts cuts of 40-50 basis points in 2025. The liquidity withdrawal also increases the likelihood of a cut to banks’ reserve-requirement ratio, he added.
PBOC’s Policy Tools
In recent months, the PBOC has downplayed the role of the MLF as the main policy rate, instead focusing on the seven-day reverse repo rate to guide market borrowing costs. The seven-day rate has remained unchanged since a 20-basis point cut in late September.
Maintaining Liquidity
Despite the cash shortfall, the PBOC has other tools at its disposal to maintain liquidity in the market. Last month, it injected a net 1 trillion yuan of funds through outright reverse repurchase agreements and purchased government bonds.
Market Expectations
Looking ahead, the market expects China to deliver significant rate reductions next year, which has sent benchmark sovereign bond yields to record lows this month. The yield on China’s 10-year government bonds fell one basis point to 1.73%, close to a record low.
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